Overview of the current energy mix, and the place in the market of different energy sources

Considering that Brazil is a country with large territorial extension, the national energy mix comprises a wide range of energy sources. According to the National Electric Energy Agency (“ANEEL”), Brazil has an installed capacity of 169,678,050 kW, divided into the following energy sources: (i) 60.96% corresponds to hydro power plants; (ii) 23.29% corresponds to thermal power plants; (iii) 8.67% corresponds to wind power plants; (iv) 4.70% corresponds to energy imports; (v) 1.14% corresponds to nuclear power plants; and (vi) 1.21% corresponds to solar power plants:

Nonetheless, it is important to highlight that the Energy Research Company (“EPE”) provides in its 10-year plan (Plano Decenal 2027) that a substantial increase of renewable energies shall take place in the Brazilian energy mix within the next 10 years. Following the expected investment of BRL 226 billion, an increase to 27GW of wind power plants and 9GW of photovoltaic power plants is predicted by 2027.

Changes in the energy situation in the last 12 months which are likely to have an impact on future direction or policy

In 2017 and 2018, the Federal Government undertook the organisation of public auctions for the construction of new power plants and supply of their energy to distribution companies.

In addition, governmental authorities maintained the debate concerning the review of the legal and regulatory framework applicable to the energy sector. Together with the recovery of the national economy and stabilisation of the political crisis, such initiative was important to reignite the attention of national and foreign investors in the country’s electric energy market.

Restart of public auctions and strengthening of the free market1

After the turbulent political crisis characterised by former president Dilma Roussef’s impeachment and her subsequent temporary replacement by Michel Temer, in 2018, Brazil held new presidential elections, which resulted in the appointment of Jair Bolsonaro as the country’s president.

In order to meet market demand for new energy auctions (scarce since 2014), in 2018, the Ministry of Mines and Energy (“MME”) and ANEEL carried out different auctions for the sale of energy produced by thermal, hydro, photovoltaic and wind power plants within four and six years as of the auction, which resumés are presented below:

Together with the bids registered at the end of 2017, these bids represented the restart of the auctions system in the Brazilian energy market.

In addition to the above-mentioned procurement proceedings, the Federal Government has recently settled dates for energy auctions to be held within the next three years, in accordance with the table below:

Despite the relevant number of auctions already scheduled by the Federal Government for the next three years, entrepreneurs have faced severe competition with such bids.

In this scenario, power producers have been studying the structuring of energy projects and proceeding with their implementation exclusively or partially based on power purchase agreements executed in the free market (including agreements based on foreign currency).

Therefore, the tough competition identified in connection with the restart of public auctions has revealed a new trend for the Brazilian energy sector; namely, the strengthening of its free market.

Developments in government policy/strategy/approach

Reformulation of the legal and regulatory framework applicable to the energy sector

In July 2017, MME opened two public hearings aimed at receiving contributions from market players in order to reformulate and improve the Brazilian power sector’s legal framework. The first public hearing discussed general principles and guidelines applicable to the sector, while the other discussed specific measures that could positively affect the market. These public hearings resulted in a draft Bill of Law, which is still under discussion in the Congress.

The hearings recommended the end of discounts applicable to TUST and TUSD fees (fees regarding connection to transmission and distribution systems) for new renewable energy projects, as well as discussing the impossibility of their replacement by brownfield power plants after the relevant licence term. Such recommendation was justified by the fact that Brazil already has a sustainable, developed and strong renewable energy market and, therefore, these incentives would no longer be required.

In this regard, it should be noted that Law No. 9,427/1996 authorised ANEEL to grant a discount on the TUST and TUSD fees for wind, solar, biomass and small hydro power plants, which were able to reduce costs of production and, consequently, the price of the generated energy.

Also, the hearings suggested gradual opening of the free market to new players until 2028, by means of the decrease of the access requirements from 200kW to 75kW of power consumption. The gradual opening of the free market has already been implemented by means of Ruling No. 514, issued by the Ministry of Mines and Energy on December 27, 2018, which gradually reduces the access requirements from 2.5 MW to 2MW between July 2019 and January 2020.

Lastly, the hearings also recommended the possibility of the establishment of public auctions specifically for capacity sale (instead of the currently existing auctions, which purpose is to sell energy produced by power plants).

In addition to the reformulation of the regulatory framework applicable to the energy sector, Federal and State Governments implemented the sale of their participation in state-owned companies with activities in the energy sector, as detailed below.

Eletrobras: Privatisation of its distribution companies

Centrais Elétricas Brasileiras S.A. (“Eletrobras”)’ process of privatisation dates back to 2015, when the company refused to renew the concession agreements executed by its distribution companies of the States of Alagoas, Piauí, Roraima, Rondônia, Amazonas and Acre through the terms and conditions provided by Law No. 12,783/2013.

In this scenario, the Federal Government resumed the process of privatisation of Eletrobras’ distribution companies upon the enactment of Law No. 13,334/2016, on September 13, 2016, which inserted such enterprises within the Investment Partnership Program (Programa de Parcerias de Investimentos – “PPI”). The PPI was established in order to define policies for investment in the infrastructure sector by means of the implementation of partnerships with the private sector.

The privatisation process consisted in the concession of the public distribution services of six Brazilian states, along with the transfer of corporate control of the distribution companies, upon the payment of a symbolic value of BRL 50,000 per concession. In addition, Eletrobras’ successors would have to invest substantial amounts of resources in order to assure gains related to the distribution companies’ efficiency, management and an improvement in the quality of services provided to local consumers.

Despite the judicial lawsuits filed in order to avoid the privatisation process, corporate control of the following distribution companies has already been sold via public auctions:

Eletrobras: Privatisation of equity interest in power production and transmission SPVs

Along with the privatisation of its six distribution companies, Eletrobras concluded the sale of its equity interest in 71 special purpose vehicles (“SPV”) that are holders of power production and transmission facilities.

Eighteen batches (lotes) were offered by means of public bidding, among which: (i) eight batches comprised 59 SPVs for wind power generation, with an installed capacity of approximately 1,605 MW; and (ii) 10 batches comprised 12 SPVs which operate transmission lines of approximately 2,912km of extension and 5,530 MWA of transformer capacity.

Sale of CESP’s corporate control

Companhia Energética de São Paulo (“CESP”) is a state-owned company created by the Government of the State of São Paulo in 1996, which today operates three distinct hydro power plants, namely UHE Porto Primavera, Paraibuna and Jaguari.

In October 2018, the State of São Paulo concluded the sale of its equity interest in CESP to a consortium formed by the Canadian Pension Plan Investment Board – CPPIB, and Votorantim Energia for BRL 1.7 billion.

Roraima’s energy auction for energy supply

In addition to initiatives associated with changes to the energy sector’s regulatory framework and with the role of the Government in such a market, other governmental measures regarding the development of the sector in the past months should be highlighted, such as local energy supply and efficiency auctions, as detailed further below.

On May 31, 2019, ANEEL carried out a specific auction focused on the supply of energy to the State of Roraima, considering that the state could be subject to energy supply drawbacks as a consequence of Venezuela’s political crisis.

As a result of such bid, the local utilities company (Boa Vista) hired 263.5 MW to be supplied by the winning projects as of June 2021 for an average price of BRL 833/MWh. Also, as disclosed by ANEEL, the implementation of the energy projects in the State of Roraima will require investments from the bidders in the total amount of BRL 1.62 billion.

Creation of a power efficiency auction

ANEEL initiated Public Hearing No. 07/2018 with the purpose of obtaining contributions related to: (i) the definition of a concept for power efficiency auctions; along with (ii) the methodology and the assumptions to be considered in the analysis of the regulatory impacts related to a pilot project to be implemented in the State of Roraima.

Initially, the proposal consisted in holding a reverse power auction, in which ANEEL would set the annual amounts of energy consumption, to be reduced throughout the efficiency program duration. In this way, bidders would compete for the lowest price of energy by implementing a number of projects for reducing the amounts of energy consumption, such as the changing of light bulbs, refrigerators or air conditioners, implementation of distributed generation, modernisation of public lighting, among others. In this regard, it should be noted that the State of Roraima has its energy supply provided mainly by energy imports and from diesel-fuelled local generation, which is an expensive and highly polluting source of energy. For this reason, the studies within Public Hearing No. 07/2018 aimed at implementing a pilot project in Roraima, a state whose economy consumes 4MW average per year.

The contributions have already been submitted to Public Hearing No. 07/2018, however, no decisions were provided regarding the execution of a power efficiency auction in the State of Roraima up to this moment.

Developments in legislation or regulation

As mentioned previously, the National Congress is currently evaluating a Bill of Law proposal that has the purpose of reformulating the regulatory framework applicable to the energy sector. Nevertheless, other legal and regulatory changes were implemented recently in order to foster the development of the national energy market, such as discussions associated with the update of the regulation regarding distributed energy and LNG projects, as detailed below.

Distributed generation and future changes in the regulation

ANEEL has regulated, through Normative Resolution No. 482/2012 (REN No. 482/2012), micro and mini on-site generation. Such measure allows final consumers to install power generation projects (wind, solar, etc.) in their residences or on other commercial or industrial facilities, in order to offset energy with the local distributor (energy generated is injected into the grid and is used to reduce the consumption of electricity from the consumer unit). The rule is valid only for consumer units that use renewable energy sources (such as hydro, solar, biomass, wind and qualified cogeneration).

Consumers that install on-site generation systems are not allowed to commercialise the excess of energy produced by the power plant, and may only offset such exceeding energy with credits from the distribution company.

The on-site generation system may be: (i) micro systems that comprise power plants with installed capacity lower than or equal to 75kW; or (ii) mini systems that comprise power plants with installed capacity superior to 75kW, and inferior to or equal to 5MW.

Despite the increase by 167% of the Brazilian distributed generation market, the improvement of REN No. 482/2012 was included in ANEEL’s Regulatory Agenda for the biennium of 2018/2019. Considering the necessity of constantly improving the regulation, the matter is being discussed within Public Hearing No. 10/2018; however, no decisions have been provided in such Public Hearing up to this moment. Among other matters, Public Hearing No. 10/2018 discusses increases in the distributed generation’s limits, funding for distributed generation projects, and the impacts of such undertakings on the distribution grid. Also, currently there is a discussion on whether the structure of the residential tariffs charged by distribution companies must be modified in view of the constant increase of distributed generation projects so that the utilities companies would be able to charge such consumers the costs associated with the use of the grid.

Penalty applicable in case of lack of fuel to thermal power plants

ANEEL enacted on August 23, 2018, Normative Resolution No. 827/2018 (REN No. 827/2018), which updates the guidelines that must be observed regarding the application of penalties to thermal power plants due to lack of fuel.

Among other provisions, Resolution No. 827/2018 untied the penalty value applicable to thermal power plants from the Differences Settlement Price (Preço de Liquidação de Diferenças – PLD), thus basing the calculation of fines on the Unitary Variable Cost (CVU) of the respective plant.

In addition, Resolution No. 827/2018 allowed free negotiation between power producer and fuel supplier concerning the penalty to be applied in case of lack of fuel.

The alterations provided by REN No. 827/2018 follow the evolution of discussions held in ANEEL and at the National Oil & Gas Agency (ANP), and take into account the relevance of the development of thermoelectricity projects integrated with fossil fuel markets, as well as the specific supply and logistics conditions for the supply of liquid fuels.

Judicial decisions, court judgments, results of public enquiries

Through the Energy Reallocation Mechanism (MRE), each hydro power plant receives its level of generation output and shares the hydrological risks with other participants of such a mechanism.

The result of MRE depends on a monthly comparison between the energy produced by the hydroelectric generators that participate in the mechanism and the sum of their generation outputs (garantia física – GF). If the energy produced exceeds the total generation output, the outstanding energy amount is shared between the hydroelectric generators that produced energy below their generation output, and those participants that exceeded their level of production are financially compensated by the mechanism. If the energy produced under MRE is below the sum of all GF of the participants, the generation output of each participant is reduced in that month by the Generation Scaling Factor (GSF), which could obligate the generator to acquire energy on the spot market. The GSF is the ratio between the energy produced by the generators participating in MRE and the sum of their generation output:

GSF = total power production in MRE/sum of MRE’s generators GF

In 2012, the level of water reservoirs considerably decreased, affecting the power generation by hydro power plants. In January of 2013, the GSF reached its lower level, meaning that hydroelectric generation was below the combined generation output of MRE’s participants. The adverse scenario continued through 2014 and 2015, when many agents of the power sector filed lawsuits, with preliminary injunction requests, aiming at the limited application of GSF to hydroelectric generators participating in MRE.

Many of the plaintiffs in these lawsuits argued that they were bearing costs, within MRE, that had no relation to hydrologic risks, such as: (i) delays regarding the start of commercial operation of new hydro power plants; and (ii) unlimited dispatch of expensive thermal power plants. In addition, it was argued that the GSF mechanism was decreasing hydro power plants’ generation outputs above the legal limit (5%), given the extraordinary context.

In this scenario, the Federal Government introduced through Federal Law No. 13,203, dated December 8, 2015 (“Federal Law No. 13,203/2015”), the mechanism called “Renegotiation of the Hydrological Risk”. This mechanism seeks to mitigate the financial losses experienced by MRE’s hydroelectric generators due to non-manageable exposure to hydrological risks. The Renegotiation of the Hydrological Risk works as a non-compulsory insurance for MRE’s participants, and in order to enter into such mechanism, the interested agent must waive its intention to discuss hydrological risk and its impacts judicially.

Nevertheless, GSF-related discussions still present difficulties today. Firstly, the renegotiation mechanism was not sufficient to mitigate the problems hereby presented. Secondly, the Brazilian courts have conceded many of the preliminary injunctions related to the GSF conflict, impairing financial settlement of the spot market. Today, the preliminary injunctions have generated a debt of about R$ 7.18 billion in the spot market, yet to be paid.

Major events or developments

As previously mentioned, at the end of 2017 and in 2018, MME and ANEEL carried out different auctions for the delivery of energy produced by thermal, hydro, photovoltaic and wind power plants within six and four years as of the occurrence of the auction.

However, since the sector players have been facing severe competition within these bids, entrepreneurs are redirecting their attention to the development of new projects exclusively or partially based in power purchase agreements executed in the free market.

For further information regarding the restart of public auctions in 2017, please refer to the section, “Changes in the energy situation in the last 12 months which are likely to have an impact on future direction of policy”.

Relevant role of MCSD during the years 2016 to 2018

Due to the excess energy in the market and a number of projects facing delays associated with the start of commercial operation, the Mechanism for Compensation of Surpluses and Deficits (“MCSD”) played a relevant role during the years of 2016 to 2018 in order to balance the demands of the national energy market. MCSD is a mechanism similar to an auction provided by ANEEL’s regulation which allows the partial, total, temporary or definitive reduction of the amount of energy contracted under the Regulated Power Purchase Agreements (so-called “CCEARs”).

MCSD was considered extremely relevant for the years between 2016 and 2018, because it allowed: (i) distribution companies with excess energy to balance their CCEARs currently in force; and (ii) projects facing commercial operation delays to keep their CCEARs.

In addition to MCSD, ANEEL has also organised an auction specifically to cancel CCEARs currently in force and has enacted a specific regulation (ANEEL Resolution No. 711, of April 19, 2016), allowing distribution companies and power producers to renegotiate the terms and conditions of their CCEARs.

Transmission companies’ exemption: truck drivers’ strike

On May 21, 2018, Brazilian independent truck drivers started a national strike, which would latter affect the country’s entire supply chain and leave most cities without full access to basic inputs. By blocking the main highways – which are responsible for most of the input flow throughout the country – fuel distribution was severely impaired and very few companies were able to carry on with their normal activities, leaving the Brazilian economy with major financial losses. Such situation, as expected, also affected energy sector companies.

A month later, the Energy System National Operator (Operador Nacional do Sistema Elétrico – ONS) contacted ANEEL regarding the occurrence, during the strike period, of several concessionaires cancelling scheduled interventions on transmission systems (such as programmed corrective and preventive maintenances). A significant number of power transmission companies had not been able to perform their programmed interventions due to the lack of inputs and fuel, and such unwarned cancellations would trigger penalties pursuant to Normative Resolution No. 729/2018 (REN No. 729/2018). However, ONS argued that, considering the extraordinary circumstances, those penalties should not be applied, even though the penalty exemption hypothesis provided in REN No. 729/2018 would not embrace the situation at hand.

In this scenario, in August, ANEEL decided, in contrast to the applicable regulation, that the penalty would not be applied to cancellations that took place during the 10-day strike. The agency acknowledged that the events caused serious logistic problems that would prevent transmission companies performing their programmed interventions. In addition, ANEEL stated that energy shutdowns, which were to be held during those maintenances, were not welcome at all during that period, especially when taking into account the lack of fuel and other basic products (which had already harshly affected the national economy).

Proposals for changes in laws or regulations

Reformulation of the legal and regulatory framework applicable to the energy sector

As mentioned previously, MME opened two public hearings aimed at receiving contributions from market players to reformulate and improve the Brazilian power sector’s legal framework. The first public hearing discussed general principles and guidelines applicable to the sector, while the other discussed specific measures that could positively affect the market. These public hearings resulted in a draft of Bill of Law, which is now under discussion in the Congress.

For further information regarding such Bill of Law, please refer to the section, “Developments in government policy/strategy/approach”.

In addition, ANEEL is currently reviewing the regulation applicable to distributed generation in order to improve the rules associated with the implementation of this kind of project in Brazil.

Endnote

Differently from energy auctions, in the free market, power producers and traders can freely negotiate the price for the sale of energy to other generation companies, traders, and free and special consumers. In the regulated market, on the other hand, distribution companies buy energy from generation companies that have won public auctions organised by the Federal Government. The conditions, amounts and rates for sales of energy are determined through the auctions.

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